Post on 17-Jan-2016
8-1©2006 Prentice Hall, Inc.
8-2©2006 Prentice Hall, Inc.
REPORTING & REPORTING & INTERPRETING L-T INTERPRETING L-T
OPERATIONAL ASSETSOPERATIONAL ASSETS (1 of (1 of 2)2)
Learning objectivesAcquiring plant assetsUsing long-term tangible assets
— depreciation and depletionUsing intangible assets—amorti
zationChanges after the purchase of a
n asset
8-3©2006 Prentice Hall, Inc.
REPORTING & REPORTING & INTERPRETING L-T INTERPRETING L-T
OPERATIONAL ASSETSOPERATIONAL ASSETS (2 of (2 of 2)2)
Selling long-term assetsLong-term asset presentation o
n financial statementsFinancial statement analysisBusiness risk, control, and
ethics
8-4©2006 Prentice Hall, Inc.
Learning ObjectivesLearning Objectives(1 of 3)(1 of 3)
Explain how long-term assets are classified, how their cost is computed, and how they are reported
Explain and compute how tangible assets are written off over their useful lives and reported on the financial statements
8-5©2006 Prentice Hall, Inc.
Learning ObjectivesLearning Objectives(2 of 3)(2 of 3)
Explain how decreases in value, repairs, changes in productive capacity, and changes in estimates of useful life and salvage value of assets are reported on the financial statements
Describe how long-term assets are reported on the financial statements
8-6©2006 Prentice Hall, Inc.
Learning ObjectivesLearning Objectives(3 of 3)(3 of 3)
Describe how long-term assets are reported on the financial statements
Use return-on-assets (ROA) and the asset turnover ratio to help evaluate the firm’s performance
Recognize the risks associated with long-term assets and the controls that can minimize those risks
8-7©2006 Prentice Hall, Inc.
Acquiring Plant AssetsAcquiring Plant Assets(1 of 2)(1 of 2)
Long-term operational assetsAssets that last for more than one
accounting periodUsed to help a business generate
revenueDoes purchase of a plant asset
affect the income statement?
8-8©2006 Prentice Hall, Inc.
Acquiring Plant AssetsAcquiring Plant Assets(2 of 2)(2 of 2)
Types of long-lived assetsTangible assets
Property, plant, and equipmentIntangible assets
Trademarks, patents, copyrights, etc.
Acquisition costsBasket purchase allocation
8-9©2006 Prentice Hall, Inc.
Acquisition Costs(1 of 2)
Historical cost principle requires assets to be recorded at their costPlus cost of getting asset in place and
ready for useWhy aren’t most long-term assets
reported at their current market value?Why aren’t long-term assets
immediately expensed when purchased?
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©2006 Prentice Hall, Inc.
Acquisition Costs(2 of 2)
Which of the following are acquisition costs for a building and why?Real estate commissionsCost of tearing down an existing buildingConsultant’s fee to decide whether to
lease or purchase the buildingInstallation feesCost of land where building will be built
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©2006 Prentice Hall, Inc.
Basket Purchase Allocation
Purchase of two or more assets for one price
Cost allocated to each asset based on their relative fair market valuesPercent of total FMV of the assetsHow do firm’s determine an asset’s
current fair market value?Basket purchase example
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©2006 Prentice Hall, Inc.
Basket Purchase Example(1 of 2)
On July 1, Valdez Environmental purchased a tug boat and oil cleaning equipment for $7M
FMV of tug boat is $4MFMV of oil cleaning equipment is $6MHow much of the $7M will be
allocated to the tug boat and to the oil cleaning equipment?
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©2006 Prentice Hall, Inc.
Basket Purchase Example(2 of 2)
Relative FMV
FMV
Tug BoatCleaning Equip
_
_
Total
AllocationTug Boat X $7M =Cleaning Equip
X $7M =
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©2006 Prentice Hall, Inc.
Using L-T Tangible Using L-T Tangible Assets: Depreciation and Assets: Depreciation and
DepletionDepletion (1 of 3) (1 of 3)
Purchase of long-term tangible assets are capitalized (recorded as assets)
L-T tangible assets expensed by depreciating (or depleting) themDepreciation allocates the COST of an
asset to the periods that benefit from the use of the assetWhat accounting principle requires this (ch 2)?
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Using L-T Tangible Using L-T Tangible Assets: Depreciation and Assets: Depreciation and
DepletionDepletion (2 of 3) (2 of 3)
Depreciation terminologyAcquisition cost (cost)Estimated useful lifeSalvage value (residual value)
Estimated value of an asset at the end of its useful life
Depreciable base = cost - salvage valueBook value (carrying value)
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Using L-T Tangible Using L-T Tangible Assets: Depreciation and Assets: Depreciation and
DepletionDepletion (3 of 3) (3 of 3)
Depreciation methodsStraight-lineActivity (units of production)Declining balance
Depreciation exampleDepletion
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Estimated Useful Life
How long a company expects an asset to be productiveMay be expressed in years or
units of activity (e.g., miles, hours, # of units produced)
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Book Value
Book value equals cost less accumulated depreciation
The unexpensed portion of an asset
Book value bears NO relationship to FMV
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Straight line Depreciation
Equal amount of an asset are expensed each yearDepreciable base is constant (cost-
SV)Depreciation rate is constant (1/UL)
Depreciable cost (cost - SV)Useful life (in years)
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©2006 Prentice Hall, Inc.
Activity (Units of Production) Depreciation
Amount of asset expensed each year depends on asset’s usageDepreciable base is constant (cost-SV)Depreciation rate is constant (1/UL)
Depreciable cost (cost - SV) Useful life in unitsAnnual depreciation expense
depr rate x actual level of activity for year
Depr Rate =
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Declining Balance Depreciation
(1 of 2)
Accelerated depreciation methodAnnual depreciation expense declines over
asset’s useful lifeDepreciable base changes (beg book value)Depreciation rate is constant (X/UL)
X = Depreciation rateMost common rate is 200%
Also called double-declining balance (DDB)Never depreciate below salvage value
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Declining Balance Depreciation
(2 of 2)
2 _UL
DDB Exp = x Book value (cost – A/D)
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Depreciation Example(1 of 5)
Photocopier purchased on 1/1/08Acquisition cost $14,000Useful life
5 years or300,000 copies
Estimated salvage value $2,000
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Depreciation Example(2 of 5)
Straight-line method $14,000 - $2,000 5 years
Activity methodAssume 40,000 copies were made
$14,000 - $2,000 300,000 copies
=$2,400/year
x 40,000 =$1,600
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©2006 Prentice Hall, Inc.
Depreciation Example(3 of 5)
Double-declining balance methodYear 1
Year 2
2 _5 yrs
x $14,000 = $5,600
2 _5 yrs
x ($14,000 - $5,600) = $3,360
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Depreciation Example(4 of 5)
SL DDBYr Exp A/D Exp A/D1 2,400 2,400 5,600 5,6002 2,400 4,800 3,360 8,960
3 2,400 7,200 2,016 10,97
6
4 2,400 9,600 1,024 12,00
0
5 2,400 12,00
0 - 12,00
0
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Depreciation Example(5 of 5)
Which method (SL or DDB) produces the highest income in the earliest years?
Which method has the highest book value throughout the asset’s life?
Which method is best for income smoothing?
Which method produces the best asset turnover ratio over the asset’s life?
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©2006 Prentice Hall, Inc.
Depletion
Used to expense natural resources as they are used upSame computation to activity depreciation
with zero salvage value Cost _ Useful life in unitsAnnual depletion expense
depl rate x actual level of activity for year
Depl rate =
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Using Intangible Assets:Using Intangible Assets:AmortizationAmortization (1 of 3) (1 of 3)
Rights, privileges, or benefits that have long-term value to the firm
Recorded at costAmortization
Same method of expensing as straight-line depreciation with zero salvage value
Accumulated amortization calculated for each intangible asset
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Using Intangible Assets: Using Intangible Assets: AmortizationAmortization (2 of 3) (2 of 3)
CopyrightProvides U.S. legal protection for authors of
original workAmortized over shorter of legal or useful life
Patent A property right on inventionsAmortized over shorter of legal life (20
years) or useful life (often around 10 years)
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©2006 Prentice Hall, Inc.
Using Intangible Assets: Using Intangible Assets: AmortizationAmortization (3 of 3) (3 of 3)
Trademarks10 years of protection; renewable
FranchiseAgreement that authorizes someone to sell
or distribute a company’s goods or services in a certain area
GoodwillResearch and development costs
Immediately expensed. Why?
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Goodwill
Excess of cost over FMV of net assets when one company purchases another companyWhy would a company pay more than the
FMV of the net assets for a company?Goodwill is not amortized
Loss recorded for decrease in valueReported in the notes to the financial
statements
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Changes After an Asset Changes After an Asset PurchasePurchase
(1 of 2)(1 of 2)
Asset impairmentPermanent reduction in market
value below book valueSimilar to LCM method for inventory
Capital expenditures to improve or extend an asset’s useful lifeCapitalize and depreciate
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Changes After an Asset Changes After an Asset PurchasePurchase
(2 of 2)(2 of 2)
At what point does a roof repair become a capital expenditure?
Revising estimates of useful life and salvage valueDepreciate remaining depreciable
cost over remaining useful lifeRevising estimate example
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©2006 Prentice Hall, Inc.
Revising an Estimate Example
(1 of 2)
FactsAsset cost: $30,000Original useful life: 5 yearsOriginal salvage value: $8,000In the beginning of year 3, the
asset is determined to have 4 years of useful life remaining and a salvage value of $6,000
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Revising an Estimate Example
(2 of 2)
Depreciation expense for yr 1 & 2($30,000 - $8,000)/5 = $4,400/yr
Book value at beginning of year 3($30,000 - $8,800) = $21,200
Depreciation expense yr 3-6($21,200 - $6000)/4 = $3,800/yr
4 =remaining years of useful life
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Selling Long-term AssetsSelling Long-term Assets(1 of 2)(1 of 2)
Cash proceeds > BV = gainCash proceeds < BV = lossCash proceeds = BV = no gain/lossJournal entry
Increase cash (debit)Remove asset (credit)Remove A/D (debit)Record gain (credit) or loss (debit)
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©2006 Prentice Hall, Inc.
Selling Long-term AssetsSelling Long-term Assets(2 of 2)(2 of 2)
Sold asset for $20,000 cashCost $35,000; A/D $18,000
Date Transaction Debit Credit
Assets = Liab. + Cont. Cap. + R/E
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Long-term Asset Long-term Asset Presentation on Financial Presentation on Financial
StatementsStatements
PP&E may be reported on the financial statements at book value or showing cost and A/D
How can you calculate the average age of depreciable assets when all you have is cost, A/D and depr exp?Could you do this if you did not know
A/D?
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©2006 Prentice Hall, Inc.
Financial Statement Financial Statement AnalysisAnalysis
(1 of 3)(1 of 3)
Return on assets (ROA)Measures how well a company is
using its assets to generate revenueAnswers the following
Did the company invest wisely in its assets?
Net Income + Interest Expense Average Total Assets
Avg total assets = (Beg TA + End TA)/2
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©2006 Prentice Hall, Inc.
Financial Statement Financial Statement AnalysisAnalysis
(2 of 3)(2 of 3)
Interest expense results from financing with debt instead of equityWhy is interest expense added back to
net income to compute ROA?How can a company increase its ROA
without increasing its net income?Compare the ROA of a CPA firm to the
ROA of an auto manufacturer
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Financial Statement Financial Statement AnalysisAnalysis
(3 of 3)(3 of 3)
Asset Turnover RatioMeasures how efficiently a company
uses its assets to generate sales
Net Sales _ Average Total AssetsExplain how a company can have a
high asset turnover and a low ROA
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©2006 Prentice Hall, Inc.
Business Risk, Control, Business Risk, Control, and Ethicsand Ethics
(1 of 2)(1 of 2)
Risks associated with long-term assetsTheft, vandalism, natural disasters,
terrorist attacks, etc.Controls used to safeguard assets
Physical controlsComplete and reliable record
keeping
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©2006 Prentice Hall, Inc.
Business Risk, Control, Business Risk, Control, and Ethicsand Ethics
(2 of 2)(2 of 2)
Controls used to safeguard assets (continued)Monitoring
Make sure that physical controls, separation of duties, and other policies and procedures related to protecting assets are operating properly
Who is responsible for monitoring function?
Comments or questions about PowerPoint Slides?Contact Dr. Richard Newmark atUniversity of Northern Colorado’s
Kenneth W. Monfort College of Businessrichard.newmark@PhDuh.com 8-
45©2006 Prentice Hall, Inc.